How to choose an equity fund

The mutual fund universe is huge with more than 569 open-end equity funds available. With this kind of choice, picking a mutual fund can be a task. This quick primer will help you understand how to pick an equity fund.

Here are six factors to consider when choosing an equity fund:

1. Investment horizon:
Your investment horizon determines whether you should go for an equity fund or a debt fund. For long-term goals - those that are more than five years away - equity is the best asset class. While equity is volatile in the short term, over the long term, the volatility is ironed out. For short-term goals, debt funds are the best option.

2. Risk appetite:
While debt funds are generally safe, the risk level of equity funds varies. Among equity funds, aggressive hybrid funds are the least risky and mid-cap and small-cap funds are the riskiest.

Aggressive hybrid funds combine both debt and equity and hence are less volatile. Large-cap funds invest in large companies and tend to give moderate returns at a low risk. Flexi-cap funds invest in companies of all sizes and are the best equity funds to own to have exposure to companies of all sizes. For investors who can take higher risk, mid- and small-cap funds are the right choice. Finally, funds investing in just one sector or one theme should be avoided as they can show wild swings and provide no diversification.

3. Fund performance:
Investing in performing funds is absolutely essential to achieve your goals. You can start by checking the star rating of a fund on the Value Research website. Two other things that you should check are (i) consistency in performance and (ii) the fund manager's track record.

4. Expense ratio:
In simple words, the expense ratio is the fee that an Asset Management Company (AMC) charges the investor for managing a fund. It may also include a commission paid to your broker or distributor. Often it happens that two similar funds from different AMCs have different expense ratios. Your aim should be to go for a fund with a lower expense ratio. This way you will end up investing more money. Read this article to know more.

5. Age:
If your goal is several years away, you must invest in equity funds. Even if an investor is retired, he can invest in an aggressive hybrid fund if he is going to need the money, say, ten years later. Still, starting early has its own advantages. Investing when you are young enables you to benefit from the true compounding power of equity.

6. Tax-planning:
Saving income tax is a priority for most of us. Thus, a tax-planning fund, known as Equity Linked Savings Scheme (ELSS), should be a part of every portfolio. These are nothing but regular equity funds that also give you a tax benefit under Section 80C. If you just stick to investing in tax-saving funds in a disciplined manner, you can do very well over time.
A good place to start choosing an equity fund would be the Fund Selector tool, which pretty much aggregates all the necessary information about multiple funds in a single place. Then of course we have an array of other useful tools that will help you zero in on the appropriate fund(s).